Rebooting the global economy

The world economy is heading for a zero growth in 2009. World trade volumes are expected to contract for the first time since 1982. Foreign direct investment (FDI) inflows will also contract, after shrinking by 21% in 2008. Development aid is also falling.

By the end of the year, the world is expected to have nearly 20 million more unemployed people than in 2007. Poverty is on the rise again. It is imperative that we revive the world economy. It is essential that we move fast and that we aim at a greener type of growth.

Restart Finance: Step Number One

First and foremost it is crucial to restore confidence in financial markets. Banks have to start lending each other again. This is the first step of any rebooting plan. And we have to start by addressing the problem of solvency. OECD has been insisting on this since 2008.

There are 3 main elements to addressing the solvency problem: (1) deposit insurance to stop runs on banks; (2) removing the bad assets from banks balance sheets; and (3) recapitalise and then sell the bad-asset-cleansed banks. It has been an error in our view to by-pass step (2) and we urge urgent action in this respect.

Allow me to use a computing analogy: before “rebooting” the economy, we must make sure that the “operating system” works.

Concerted Macroeconomic Responses

Concerted macroeconomic responses are also crucial. In the past months governments have responded to the economic downturn with the largest macroeconomic stimulus in world history. However, markets pessimism still shows no signs of abating and the torrent of bad economic news doesn’t stop.

The question now is how to rebuild confidence in the global economy, confidence in globalisation. The better coordinated our responses are the sooner we will restore it.

As Paul Krugman recently highlighted, “there are already too many interdependencies for any country to go its own way”. But still countries are often trying to go their own way; creating a natural distortion in the globalised economy. Macroeconomic measures and fiscal stimuli have to be internationally coordinated and for that we need stronger, more inclusive and agile international organisations.

Fiscal Stimuli: Big and Smart

The fiscal stimuli packages that the countries are designing and launching will constitute the largest global economic impulse ever. But more important than the amount in dollars injected, which already looks colossal, is the quality of these packages. We need more information on their content and effectiveness.

Our fiscal stimuli have to be big, but also smart.

It is important that any tax cuts to reboot the economy are designed to maximise their immediate benefits. While designing and implementing these programs, it is important to consider how quickly the tax cuts and incentives can benefit the taxpayers; there is little point in cutting a tax rate now that will only reduce tax payments next year. We need to avoid a procyclical stimulus.

It is crucial that the tax changes protect the living standards of the most vulnerable sections of the community. Cutting personal income taxes for low-income households can be expected to be effective as such households are likely to spend more of any tax cut than high-income families. Also, in the longer-term, such a tax break could also stimulate labour supply and thus growth.

A Green Rebooting

And it also is very important that rebooting the economy does not mean destroying the environment. In the coming months, the world is going to “give birth” to a multi-trillion dollars economic boost. China and the United States each will implement close to 1 trillion dollars worth of economic stimulus. As Thomas L. Friedman pointed out recently, if they give birth to “a pig” ─ a big, energy devouring climate spoiling stimulus ─ our children’s future is doomed. If on the contrary, countries give birth to a gazelle ─ a lean, energy-efficient and innovation friendly stimulus ─ this will be the opportunity of our lifetimes.

This crisis is a big opportunity to move to solar panels, to wind energy and hybrid vehicles. It is a unique opportunity to bring about a greener growth, to confront the ever growing peril of climate change, to curb deforestation and ocean pollution. In December, during the COP14 meeting in Poland, we debated why it is crucial for finance ministers to worry about climate change and presented OECD’s work on the economics of climate change, which is helping to find cost effective mechanisms to reduce GHG emissions in times of crisis.

It may sound paradoxical but one of the most efficient ways to reboot our economies is by addressing our structural challenges, like developing smarter energies, like liberalising international trade, like reducing inequalities, fighting poverty or improving education. OECD has identified the best practices, the best policies in each of these areas.

Our newly presented Strategic Response to the Financial and Economic Crisis provides elements and analytical tools to help governments redesign and restart the financial system, but also a comprehensive strategy to attenuate the impact of the current recession and put the global economy back on a sustained growth trajectory.

Through this Response, we will help countries upgrade their governance capacity. Let’s not forget that this crisis was also the result of poor governance (both private and public) and weak institutional settings in the most developed countries. And we will assist them in designing, where necessary, timely exist strategies that guarantee a new healthy balance between markets and government.

Rebooting the global economy demands a collective, coordinated and multi-dimensional response. Multilateralism is the only way forward. OECD is ready to help.